The Government’s being warned it can no longer shift the financial risk for multi-million dollar projects onto design and construction companies without paying a premium.
In the wake of Tuesday’s Christchurch metro sports facility debacle, two construction industry heavyweights tell Newsroom so-called novated contracts have inflicted large losses on firms over several years and a fairer approach is needed.
That could pose problems for the Government, as it reviews several delayed Christchurch anchor projects and prepares to embark on what could be the largest construction project in New Zealand’s history – KiwiBuild.
On Tuesday, the Government pulled the carpet from under its preferred contractor for the metro sports facility, Leighs Cockram Joint Venture, after a “cost blowout” of $75 million.
Christchurch Rebuild Minister Megan Woods’ office has confirmed it was a novated contract – although the agreement torn up by Crown rebuild company Otakaro was for early contractor involvement.
Construction Strategy Group chairman Geoff Hunt says the pendulum has swung too far in favour of project procurers and the industry is starting to push back.
“Contractors I know are already walking away from certain projects because the risks are too high.”
He adds: “I think there’s been enough damage to the design companies and the construction companies that they’re going to be much smarter in what they sign up to.”
That tougher attitude was exhibited by Leighs Construction managing director Anthony Leighs. He told Newsroom on Tuesday that only a small percentage of the $321 million price tag for the metro sports facility was the “over-budget construction contract” and the rest was financial risk. He said: “That’s their risk contingency, not ours.”
Construction Industry Council chair David Kelly, the chief executive of Registered Master Builders, says to take on the risk of a novated contract, a contractor will charge a premium – “which is only fair”.
“So you can get some cost-blowouts because of the process the Crown’s chosen to use.”
The highest-profile case is Fletcher Building’s losses from Christchurch’s justice and emergency precinct and convention centre, which are central city anchor projects. Last month the company said it had clocked up losses of almost $200 million on those projects. Fletcher’s share price has plunged from near $11 a year ago to around $7 today, wiping more than $2 billion from the listed company’s market capitalisation.
Hunt says the Fletcher lesson could mean fewer bids for large, complex projects in future or companies walking away if they’re not comfortable with the risk. “I’m sure many of the construction companies have read the Fletcher story in the newspaper and their owners and boards will be saying to their managers, be conservative be real and don’t under-price these jobs.”
Hunt says he’s dealing with a $6 million loss for the construction company Hawkins, which he used to manage. “And then you spend several years with lawyers gradually clawing your way back.”
He adds: “Six million is a lot of money in an industry that operates in very low margins.”
Kelly adds: “That’s the real concern here and the construction industry has for some time now been saying – and particularly talking about the Government – you can’t just pass on all your risk to everyone else and not pay a reasonable premium and just want to get the cheapest price all the time.”
After the global financial crisis, construction companies were desperate for work and many, unwisely, signed up to contract conditions they wouldn’t normally. But the advantage is now swinging back the way of the construction firms, which have a plethora of projects to bid for.
Add to the mix the Government’s KiwiBuild project, which aims to build 100,000 houses over 10 years. Hunt says that’ll probably cost $40 billion, making it possibly the largest construction project in New Zealand’s history.
The Government has to be “smart and quite balanced” about the way it goes in procuring that size of construction project, he says. That’s because no construction company worth its salt would touch a novated contract associated with KiwiBuild.
“There are better ways of tackling projects that will still bring very, very good results for the Government.”
Hunt says if the Government looks overseas at design and build contracts in the likes of Australia, the United Kingdom and the United States, “there isn’t really any such thing as a bargain”.
“There should be the right price with the right risk for each contract. You shouldn’t see large losses being incurred by the construction companies and design companies.”
Kelly says he’s spoken briefly to Building and Construction Minister Jenny Salesa and he’s hoping for a more detailed discussion with her in the coming weeks.
Newsroom asked Woods’ office how many of the Christchurch anchor projects used novated contracts but it didn’t respond by deadline.